Tax Court Decision Could Impact NJ Hospitals

June 29, 2015 Mark Hrywna

A New Jersey Tax Court judge’s decision could have ripple effects for hospitals around the Garden State and their exemption from property taxes.

“If the property tax exemption for modern nonprofit hospitals is to exist at all in New Jersey going forward, then it is a function of the Legislature and not the courts to promulgate what the terms and conditions will be. Clearly, the operation and function of modern nonprofit hospitals do not meet the current criteria for property tax exemption,” Judge Vito Bianco wrote in an 88-page decision issued Thursday in AHS Hospital Corp v. Town of Morristown. Morristown has challenged the hospital’s property-tax exemption in the past, arguing that the system relies on for-profit doctors charging high fees for treatments and thus, no longer serves its nonprofit purpose.

Atlantic Health Systems (AHS), which operates Morristown Medical Center in Morristown, N.J. among other medical facilities in the state, had challenged the denial of its claim for property tax exemption for the tax years 2006, 2007 and 2008.

With the exception of the auditorium, fitness center, and the visitor’s garage, the hospital’s “claim for property tax exemption is denied based on the court’s findings that the subject property is being used substantially for profit,” he wrote.

In a statement, Atlantic Health System called Bianco’s decision “disappointing,” with serious consequences for both Morristown Medical Center as well as other healthcare systems in New Jersey.

“After reviewing the decision in greater depth, we will evaluate our options and make a decision that is in the best long-term interest of the hospital, the patients we serve, and the greater community. This decision is limited to the issue of property tax, and does not call into question the charitable status of the hospital. We remain a not-for-profit organization,” the statement concluded.

In a 2010 ruling, the court granted partial summary judgment to the town finding that leased office spaces in the hospital’s cancer center and space rented to a café in the main hospital building were being operated for profit.

By entangling its activities and operations with those of for-profit entities, the hospital allowed its property to be used for profit, according to the latest ruling. This commingling of effort and activities with for-profit entities was significant, and a substantial benefit was conferred upon for-profit entities as a result.

The hospital loaned millions to its insurance subsidiary, paid millions in expenses, and guaranteed a line of credit for $10 million. Even if those were paid back, the judge wrote that there is no meaningful separation between the for-profit and nonprofit subsidiaries of Atlantic. “In short, the hospital called all the shots,” he said.

Physician contracts entered into by the hospital and its employed physicians demonstrated a “profit-making purposes” and failed to satisfy the profit test, according to the judge. Employed physicians were given an incentive component in addition to their base compensation and incentive pools were derived from departmental expenses and the profit was split between the hospital an the employed physicians, indicating the operation was conducted for a profit-making purpose.

sThe hospital also failed to meets its burden to establish the reasonableness of the compensation paid to its executives, and failed to convince the court that the standard applicable to the IRS should be adopted in New Jersey. “As with much of the hospital’s case, the failure here is one of proof,” the judge wrote.

Benefits for executives include a cell phone plan, automobile stipend and golf club membership.

“A nonprofit organization is permitted to pay its employees salaries so long as those salaries are not excessive and they do not demonstrate a profit-making purpose.” The court previously has found a profit-making purpose in employment agreements where revenues were divided between a hospital and its employed physicians.